Review of the Week: Busting the narrative

After getting all fired up for interest rate cuts, decent American economic data spoiled the mood last week. Our chief investment officer, Julian Chillingworth, notes the growing disconnect between investors’ expectations and economic reality.

The US added significantly more jobs in June than economists expected. Instead of 160,000, Nonfarm Payrolls came in at 224,000 on Friday, led by boosts to healthcare, professional services and warehousing. Suddenly, a July US Federal Reserve interest rate cut was no longer the sure thing that so many investors had convinced themselves it was. After a week of steady gains, stocks and bonds had a bit of a hiccup.

For a long while, we’ve felt that the US economy is ticking along ok: it’s not smashing the lights out, but neither is it about to roll over and die. Meanwhile, the market keeps swinging from doom to gloom and back again. Making things even more confusing, is that good news for the economy is seen as bad news for stocks because it means higher interest rates, which are used to adjust values for time. This nonfarm payrolls is a case in point: the (extremely volatile) headline number was good, so investors worried that the Fed won’t cut rates because the economy is ‘booming’. But booming seems overblown, especially when a cursory look at the revisions (released at the same time) showed that job gains in May and April were actually lower than first thought. Again, the US is doing alright – not great and not bad.

Fed Chair Jay Powell testifies at Congress this week, so there will be plenty of questions about his views of global growth, the trade war and how it will affect US growth and monetary policy. It seems a tough spot to play well. The way the market is acting, Mr Powell will have to show enough confidence about the global economy not to spook businesses while simultaneously laying on enough concern to keep investors salivating over rate cuts. It’s like a game of Technocratic Twister.

In other central banking news, Christine Lagarde was nominated to take over the European Central Bank (ECB) when Mario Draghi steps down later this year. The International Monetary Fund boss was a surprise pick – a lawyer by trade, she has no monetary policy or economic experience. She has run numerous large organisations and government departments though, and her communication skills should be a strong asset at a central bank. Before she takes the job, her appointment will need to be rubberstamped by the European Parliament.

Source: FE Analytics, data sterling total return to 5 July


Of stocks and bonds

Stock markets get a lot of air time. They are cooler than their sad cousins, bond markets.

Stocks are about the future, about awesome new technology and higher earnings than the year before. In a word, stock markets are about hope. Bond markets are about the past. They are about asking boring questions like, why do you need to borrow this money? How will you pay it back? What can go wrong? If bond markets had a word, it would be pessimism. Only bond investors could buy assets that guarantee a loss because they were worried about even greater losses.

Now, this doesn’t mean we dislike bonds – on the contrary! Bonds are for the fans. They are widely considered boring, but that’s only because some of their features and concepts can be difficult to understand. There is so much intricacy buried beneath the surface. They are also the perfect complement to equities precisely because they are as sad as equities are happy. They are the dependable twin, the one that keeps the other grounded and ensures you don’t lose your shirt when markets go sour. But lately, the bond market has been a bit off-colour. Whether because of a change in temperament or because of the great on-going intervention in bond markets by most of the world’s central banks, bonds are perhaps becoming less helpful in the signals they offer.

All major 10-year government bonds have slumped year to date. Gilts are roughly 60 basis points lower, US debt 70bps, German 60bps and Japanese down 30bps. German debt is the most negative ever at -0.4%.

Over the post-global financial crisis decade, the bedrock of monetary policy has weakened. The relationship between unemployment and inflation has seemingly disappeared. Now, despite extremely low unemployment, inflation in developed nations remains muted. And limited inflation means there is little pressure on central banks to raise interest rates and risk being the villain that destroys a nation’s prosperity.

The bond market has always been a good economic gauge, but now that interest rates are virtually uncoupled from economic data, what does that mean? Both bond and equity investors expect interest rates to remain lower for longer, which is why the prices of both have soared recently. Characteristically, stock market investors are much more optimistic about the chances of rate cuts in the future, but bond markets are pricing in probably too many US rate cuts too (in our opinion).

We think investors have to be careful about the bonds they buy and the prices they pay.


UK 10-Year yield @ 0.74%

US 10-Year yield @ 2.03%

Germany 10-Year yield @ -0.37%

Italy 10-Year yield @ 1.74%

Spain 10-Year yield @ 0.32%


Economic data and companies reporting for week commencing 8 July

Monday 8 July

UK: BRC Sales Like-for-Like

US: Consumer Credit

EU: Sentix Investor Confidence


Tuesday 9 July

US: NFIB Small Business Optimism, JOLTS Job Openings

Interim results: Micro Focus International

Trading update: Robert Walters


Wednesday 10 July

UK: Monthly GDP, Industrial Production, Manufacturing Production, Construction Output, Index of Services, Trade Balance, RICS House Price Balance

US: MBA Mortgage Applications, Wholesale Trade Sales

Final results: Superdry

Quarterly results: Dunelm

Trading update: Barratt Developments, Wetherspoon (JD)


Thursday 11 July

UK: BoE Financial Stability Report

US: CPI Inflation, Real Average Weekly Earnings, Monthly Budget Statement

EU: ECB Meeting Minutes (5-6 June)

Trading update: Kier Group, Workspace


Friday 12 July

US: PPI Inflation

EU: Industrial Production



Total votes: 113

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